Create a Budget Estimate Using the Bottom-Up Approach - dummies

Create a Budget Estimate Using the Bottom-Up Approach

By Stanley E. Portny

Preparing a budget for your project requires two steps: First you prepare a rough estimate. Then when you move into the organizing and preparing stage of your project, you’re ready to create your detailed budget estimate.

Develop your bottom-up estimate by doing the following:

  1. For each lowest-level work package, determine direct labor costs by multiplying the number of hours each person will work on it by the person’s hourly salary.

    You can estimate direct labor costs by using either of the following two definitions for salary:

    • The actual salary of each person on the project

    • The average salary for people with a particular job title, in a certain department, and so on

    Suppose you need a graphic artist to design overheads for your presentation. The head of the graphics department estimates the person will spend 100 person-hours on your project. If you know Harry (with a salary rate of $30 per hour) will work on the activity, you can estimate your direct labor costs to be $3,000.

    However, if the director doesn’t know who’ll work on your project, use the average salary of a graphic artist in your organization to estimate the direct labor costs.

  2. For each lowest-level work package, estimate the direct costs for materials, equipment, travel, contractual services, and other nonpersonnel resources.

    Consult with your procurement department, administrative staff, and finance department to determine the costs of these resources.

  3. Determine the indirect costs associated with each work package.

    You typically estimate indirect costs as a fraction of the planned direct labor costs for the work package. In general, your organization’s finance department determines this fraction annually by doing the following:

    • Estimating organization direct labor costs for the coming year

    • Estimating organization indirect costs for the coming year

    • Dividing the estimated indirect costs by the estimated direct labor costs

    You can estimate the total amount of indirect costs either by considering that they’re all in a single category labeled “indirect costs” or that they can be in one of the two separate categories labeled “overhead costs” and “general and administrative costs.” Choose your method of estimating indirect costs by weighing the potential accuracy of the estimate against the effort to develop it.

Suppose you’re planning a project to design and produce a company brochure. You already have the following information:

  • You estimate that you’ll spend 200 person-hours on the project at $30 per hour and that Mary will spend 100 person-hours at $25 per hour.

  • You estimate that the cost of the stationery for the brochures will be $1,000.

  • You estimate $300 in travel costs to visit vendors and suppliers.

  • You expect to pay a vendor $5,000 for the brochure’s artwork.

  • Your organization has a combined indirect cost rate of 60 percent of direct labor costs.